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T C A Srinivasa-Raghavan: Narendra Modi's golden opportunity

Whenever the prime minister and the finance minister are novices in finance, they manage to revive the economy

T C A Srinivasa-Raghavan 

T C A Srinivasa-Raghavan

In 1996, after the Bharatiya Janata Party government fell in 13 days, became the prime minister and the finance minister. Neither knew much about such things. We are back in that situation again.

Neither nor is familiar with the intricacies of the central government Mr Modi must have some idea of a as he was a chief minister for so long, but necessarily those must be simple. A central is far more complex than a state Budget.

Is this a good thing or a bad thing? On balance, it would appear that it is a good thing, not least because the record suggests as much. In the last 30 years, every time we have had a prime minister and a finance minister who are not weighed down by prejudices, fears and useless knowledge, they have managed to light a fire under the simply by keeping it simple.

In 1985, neither Rajiv Gandhi nor V P Singh had more than an elementary idea of what was needed. They followed their gut instinct and cut income taxes sharply. The industrial part of the took off. In 1997, Messrs Gowda and Chidambaram also cut income taxes and, after a year, the responded very well. The same thing has happened in other parts of the world, too.

Tax cuts revive the economy because they make everyone feel better about the future. One must, therefore, quite fervently hope that Messrs Modi and Jaitley will do the same without obsessing about the fiscal deficit.

It is no one's case that the deficit should be allowed to spiral out of control, but there is no need to make a fetish out of it as Mr Chidambaram who, given the real risk of massive capital outflows from mid-2012 onwards, was forced to do.

Cut the taxes
Indeed thanks to his efforts and the election outcome - it is hard to say which has played a bigger role - the danger has now passed. The Modi-Jaitley duo can afford to take some chances.

Purists could regard it as an "irresponsible" Budget - read a fiscal deficit of over five per cent - and grumble that the risks of capital flight have been revived. But that might be a risk well worth taking if a deep enough leads to the revival of the so-called animal spirits. All sins are forgiven when there is growth.

There is, of course, the revenue question: if a lot of tax revenue is given up because of the cuts, where will the government get money from? The answer to this is laughably simple - make small cuts in expenditure everywhere and rely on better compliance. That's how sensible budgeting is done: by doing what can be done, instead of worrying over what should be done because a bunch of articulate but impractical people insist that they know best.

Economists and their fellow travellers like to talk about cutting subsidies, and they are right. But that should be a medium-term objective, say, over three years. In the meantime, smaller economies can be achieved.

In any case, inflation has to be brought under control first, because politically it would be suicidal to cut tax rates and subsidies both at the same time. The alternative is to not cut the tax rates and keep subsidies intact. But that would be economically suicidal.

Start with income tax
Luckily, the next general election is five years away and Mr Modi can afford to focus on the economy for the next four years. That is pretty much what he said during his reply to the president's address. His best chance to cut income taxes is now and he must take the necessary risk - just as Rajiv Gandhi and Deve Gowda did right in their first year in office.

For this, Mr Modi needs to be told that over the last half century and more, a tremendous amount of nonsense has been written about the We have forgotten how recent it is and how until just 100 years ago it used to be levied only to finance wars. The spread of the universal franchise in the 20th century made it an important instrument of redistributive politics, not economics which it pretends to be.

But it is probably futile to think it will be abolished. That wouldn't work politically in a democracy full of poor voters.

So the second-best solution is to minimise the evil and keep the rates down to an absolute minimum - like 20 per cent for those who earn more than Rs 1 crore a year, 15 per cent for those who earn between Rs 10 lakh and Rs 1 crore a year, and three per cent for those who earn between Rs 3 lakh and Rs 10 lakh - and abolish every single one of those exemptions.

First Published: Fri, July 04 2014. 22:48 IST